Rates rise as Russia's Central Bank attacks inflation

The Central Bank of Russia has announced it is raising interest rates in an attempt to curb inflation. The surprise move is putting the spotlight on what tools the government and the CBR have to fight the problem.

Until now, one of the key weapons has been rouble appreciation. It is expected to continue, but analysts see it as a double-edged sword which may help with inflation but may cause pain elsewhere. 

After a disastrous inflation result of nearly 12 per cent in 2007, followed by 2.4 per cent in January alone, the CBR has acted. It’s lifted the key one-day repo rate by 25 basis points to 6.25 per cent, added a similar amount to deposit and refinance rates, and lifted the reserve requirements for banks. 

“It’s a surprising move because just a day before the CBR officials were saying that the stability of the national banking sector is the priority for them,” said Vladimir Osakovsky, economist at UniCredit Aton.  

Analysts say the move can harm Russia's fragile banking system. They note it isn’t likely to have much effect on inflation, leaving the bulk of the fight resting on continued rouble appreciation. 

“Rouble appreciation is a very effective tool for fighting inflation,” said Yaroslav Lissovolik, chief economist at Deutsche Bank. 

Meanwhile, rouble appreciation has some negative effects too. It makes imports cheaper and undermines the competitiveness of domestic products, and it isn’t seen as a long-term solution.

“Rouble appreciation is a short-term solution. The problem of inflation is driven by massive increasing consumer and investment demands, and rouble appreciation does not address these problems at all. It attracts more speculative capital into Russia and worsens inflation,” Osakovsky added.  

Analysts are expecting continued inflationary pressure throughout 2008, with many tipping the annual rate will come in at more than 10 per cent – well above the government’s forecast of 8.5 per cent. 

Although rouble appreciation will help to some extent, it can’t do it alone, which means that more moves by the CBR to limit the money supply in circulation can be expected as the government searches for long-term responses.